WOLF - ON Semiconductor: On Track To Triple SiC Revenues

Summary

• ON Semiconductor Corporation's CES presentation reaffirmed that the chipmaker remains on track to triple silicon carbide revenues in FY23, from $300m to $1b or more.
• ON Semiconductor Corporation also has solid visibility, with all of the supply capacity for auto/industrial markets being locked into long-term supply agreements.
• Incremental revenue growth of ~$700m in SiC is expected to offset $400-450m of lost revenue from discontinued products.
• Bottom line growth stemming from margin expansion in FY24 and SiC revenue growth could see ON Semiconductor earn $4.80 per share.

CES 2023 highlighted some of the automotive industry's futuristic, up-and-coming tech and concept vehicles, but one of the underrated developments to stem from the expo was ON Semiconductor Corporation's ( ON ) ("onsemi") path to triple silicon carbide (SiC) revenues in 2023. Revenues are projected to rise from ~$300 million in 2022 to the $1 billion mark, with the company having " stated it is sold out through 2023." Strength in SiC as well as longer-term growth trends in the automotive segment can offset lost revenue from exiting certain products, positioning ON for a visible growth runway through 2025.

SiC Growth, A Positive

Onsemi CEO Hassane El-Khoury reiterated at the NASDAQ 47th investor conference that the company has " very clear visibility " for silicon carbide revenues reaching the $1 billion threshold in 2023, as all of the company's silicon carbide capacity for 2023 "and beyond, is under LTSA." He noted that onsemi has "$4 billion of committed revenue" for SiC over the next three years - about $1 billion in 2023, potentially rising ~30% in 2024 and 2025 to reach $1.7 billion.

onsemi has already "doubled (its) fab capacity to get to the silicon carbide out," and "will double that again" in 2023 before another doubling in 2024. So, moving forward, the company is quickly building out production capacity for silicon carbide and has a solidly visible growth runway to at least $1.7 billion by 2025, completely via long-term supply agreements. The initial ramp phase in 2023 is expected to hit gross margins by 100 to 200 bp, but following this ramp phase and capacity build-out in order to meet high demand (again, since auto supply is already sold out ), the stage is set for margin expansion in 2024, possibly above the 50% mark.

Overall, the pace of revenue growth in SiC from 2022 to 2025 is tremendous - revenues are set to rise over 370%, or at a 54% four-year CAGR. Combining that with an " 80% market share in ADAS today," significant expected growth in ADAS chips driven by substantial L2+ penetration as dozens of OEMs roll out ADAS-equipped vehicles at volume through the rest of the decade, and expectations for SiC market growth to outpace silicon and GaAs growth through 2027 create a perfect storm of tailwinds to drive growth. Increased chip content per vehicle to drive functions such as ADAS, smart cockpits, infotainment, etc., also can provide another boost to revenue by increasing the dollar value per car - at CES, the content per vehicle for onsemi was highlighted to be up to $700 per car .

Competition does exist from players such as Infineon ( IFNNY ), ROHM ( ROHCF ), STMicroelectronics ( STM ), and Wolfspeed ( WOLF ). However, holding 80% ADAS market share and 60% auto market share should be more than enough to hold off any competitive pressures, as SiC chip demand is expected to surge due to its ability to boost range and accelerate charging for electric vehicles ("EVs") - the recent partnership with Hyundai-Kia highlighted these benefits from SiC chips.

Strong Performance In A Transformative Year

onsemi is performing well in a transformative year, building out and boosting SiC and automotive segment revenues while cutting back on unprofitable business lines. onsemi also is releasing new products, with three new EliteSiC products unveiled at CES last week.

2023 is expected to face some headwinds - notably in gross margins from scaling SiC products and revenue losses from exiting some lower-margin product lines. onsemi has about $400 million to $450 million left in products that it believes are not adding value - with an average gross margin around 25% - that it expects to cut throughout the year. Given onsemi's TTM revenues of ~$8 billion, that's about 5% of its revenue that it expects to discontinue.

However, this revenue loss from exiting lower-margin products should be easily covered by the expected ~$700 million revenue growth from SiC, as that is completely booked and sold out. onsemi is also "struggling to meet end demand" even with industrial and auto sector supply sold out - although there is some lost revenue here by not being able to meet high-end demand, navigating weakness in the broader chip market should be smoother since a majority of revenue is booked and paid for. For FY23, an initial revenue projection of $8.3 billion stems from the SiC revenue growth, offsetting some end-market weakness in the broader industry and discontinued products.

Bottom Line Strength To Recover In FY24

As onsemi progresses through FY23, gross margin pressures are expected to ease as SiC revenues surge, allowing gross margins to likely surpass 49% by early 2024. Gross margins have expanded steadily throughout 2021, aiding net margin expansion as revenues increased by over 50% from $5.25 billion in FY20.

Some bottom line pressure stemming from the gross margin headwinds and increased cost to build out SiC production could dent earnings by ~12% to the mid-$4.60 range for FY23. Moving into FY24, gross margin expansion to 50.0% to 50.5% is possible as SiC margin headwinds abate, unlocking the door for net margin to expand to 23% to 24%.

With revenues for FY24 projected to reach $8.8 billion, or approximately +6% growth from that estimated $8.3 billion for FY23, onsemi's bottom line is expected to bounce back from any FY23 weakness. At a 50.5% gross margin and 24% net margin, onsemi could earn $2.1 billion, or ~$4.80 per share; this represents about 25% growth from TTM EPS of $3.98 . The combination of strong growth in SiC chips to an estimated $1.3 billion to $1.5 billion in FY24, combined with gross margin recovery and net margin expansion aiding bottom line growth makes shares attractive here - shares trade at about 13.3x FY24 EPS, or nearly 30% below a 5-year historical forward PE of 18.1x. Valuing shares at ~16x FY24 EPS returns a $77 target price, or just above 20% upside from current levels.

Outlook

onsemi's CES exhibition flew under the radar, but the chipmaker revealed some strong projected numbers for its growing SiC business as well as solid visibility into revenue growth via long-term supply agreements. Although headwinds are expected in FY23 related to the SiC business, the back half of FY23 moving into FY24 should see headwinds ease, allowing a combination of margin expansion and revenue growth to drive EPS nearly 25% higher from TTM levels.

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